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September 1992





News and Views
for the Eighth District


of a bank holding company,
the bank examination and
holding company inspection
are conducted concurrently.
Inspections of multibank
holding companies are norments to develop procedures
that provide for alternate exam- mally coordinated with an
examination of the le,ad
inations on a 12-month basis.
bank within the organization,
Since 1981, the St. Louis
whether the examination
Fed has had an alternate
is ~onducted by a state or
examination agreement with .
-federal banking agency.
the Commissioner of Finance
Through these coordinated
in Missouri. In addition, it
both Reserve Bank
has informal arrangements ,
bank supervisors
with state banking supervisors
assess accurately
in Arkansas, Kentucky, Illinois,
the condition of the entire
Indiana and Mississippi under
which the Reserve Bank accepts banking organization and
state examinations of banks in focus examiner resources on
those institutions that pose the
satisfactory condition to meet
greatest risk to the deposit fund.
Federal Reserve frequency
Coordination efforts also
extend to bank holding company supervision. In those
instances where a state member bank is the only subsidiary

Fed and CSBS Encourage Alternative
Examination Agreeme,nts
On September 9, the Federal
Reserve Board of Governors and
the Copference of State Bank
Supervisors executed a joint
resolution encouraging cooper"'
ative examination agreements
between Federal Reserve Banks
and state b_4nking depart~ents.
* I* •
• •..
f GDy • •.
.. . I This resolutiQn 'formalizes the
,. •
. Fed's long-standing practice of
• * dose cooperatiOffwith state
• •
• "TI
LU ,.
banking supervisors.
.. ..-\
I- •
c.., •
Begun in 1981, the Fed's
alternate examination program
now includes 36 states, repre,. •. 4L Rt ,. .. *
senting 96 percent of all state
member banks, which participate either formally or informally. The resolution asks
each Reserve Bank, where they
have not already done so, to
work with state banking depart-4t

, J





Federal Reserve Bank of St. Louis


he Federal Reserve Bdard
of Governors recently issued
an interpretation of the capital
adequacy guidelines concerning
subordinated debt issued by
bank holding companies and
state member banks. The
interpretation was effective



September 4 and clarifies the
to demand payment when the
manner in which subordinated issuer is experiencing financial
debt must be structured to
difficulties and is unable to
qualify as Tier 2 capital. The
paywithout endangering its
interpretation ensures that
financial viability. Debt that
holders of debt qualifying as
•has-many commonlyemployed
capital will not be permitted,
(continued on back page)
by the terms of the instrument,

FDICIA Implementation: What's Next?
Proposed regulations implementing the Federal Deposit
Insurance Corporation Improvement Act of 1991 (FDICIA)
have been published for comment this past summer. In July,
federal banking agencies issued notices of proposed rulemaking
with respect to prompt corrective action for undercapitalized
institutions, certain minimum safety and soundness standards,

standards for prudent real estate lending and limitations on
interbank liabilities. These were followed in early August by a
proposal to revise risk-based capital guidelines to incorporate
interest rate risk. Achart reflecting the status of regulations being
issued in fi~al form between now and year-end appears below.



· Status

Prompt Corrective Action
Final uniform regulations by each banking agency implementing for all deposit01y institutions a system of prompt corrective action established by FDICIA. The regulations will define
capital zones using a leverage ratio and a risk-based capital ratio, establish mandatory and
- discretionary supervis01y actions applicable to institutions in those zones, and establish
procedures for issuing and contesting prompt corrective action directives.

Final regulations issued in
September to be effective
December 1992.

Interbank Liabilities
Final regulation to be issued by the Federal Reserve prescribing standards to limit the risks
posed by an insured depository institution's exposure to another depository institution. The
regulation will require depository institutions to develop and implement internal procedures
to evaluate and control exposure to the depository institutions with which they do business
and set limits on both credit risk and settlement exposure to each individual cor~espondent.

Final Regulation F applying to
all depo~itory institutions to be
issued soon to be effective
December 1992.

Independent Audit Committee
Insured depository institutions with assets more than $150 million must have an audit committee made up of directors independent of management. In larger institutions (to be
defined by regulation) the members must be persons with banking or related financial
expertise, have access to the committee's own independent counsel and may not include
large customers of the institution.

Statutory provision to be effective
January 1993. FDIC will prescribe

Truth in Savings
Final regulation issued by the Federal Reserve implementing disclosure requirements for
new and existing deposit accounts, and prescribing formulas for computing the annual
percentage yield (APY) and other terms. In addition, the regulation sets rules for advertisements of deposit accounts and a notice period before the effe_ctive date of any adverse change
in the terms of an account.

Final regulation issued in
September to be effective
March 1993.


Real Estate Lending
The federal banking agencies have proposed uniform real estate lending standards for
depository institutions. The proposed standards prohibit extensions of credit that do not meet
the requirements of the regulation.
Federal Reserve Bank of St. Louis

Final regulation to be issued before
year-end and to be effective no
later than March 1993.

Transaction Limitations in Savings and MMDA
Accounts: Suggestions for Compliance
hanges to the
limitations on
savings account
transactions have
added to the
complexity of account restrictions. Unfortunately, such
changes have been followed by
a marked increase in the number of violations of Regulation
D (Reserve Requirements of
Depository Institutions) noted
in recent consumer compliance examinations.
The most frequent violation is
an excessive number of transactions between accounts or to
third parties in both money
market and traditional savings
accounts. An analysis of these
violations by Fed examiners
suggests that deposit accounting systems may not reflect and
monitor the limitations, and
that bank customers may not
fully understand them.

Federal Reserve Bank of St. Louis

Both accounts now limit
to establish limits in the bank's
customers to six transfers and
deposit accounting system towithdrawals between accounts
prevent transactigps that exceed
in the same institution, or to
six each month. The other
third parties each month or
approach is to adopt procedures
calendar statement cycle. Only
three of the six transfers may
be third-party payments by
Banks have two
check, draft or debit card.
ways to ensure comCertain transactions, howeve1~ pliance. The iu-st is
are exempt. Transfers or withto limit transactions
drawals made by mail, messen- beyond six each
ge1~ automated teller machine
month. The other
(ATM) or in person do not
approach is to adopt
count toward these limitations. procedures to moniAtransfer by telephone is not
tor activity ex post.
exempt, however, unless it is a
request for the bank to withdraw
to monitor activity ex post.
funds and mail a check to the
· Under either approach, banks
depositor. All preauthorized
transfers to another account
must be able to distinguish
of the same customer or to a
the method of transfer or
third party are subject to the
Banks that choose to monitor
six transaction limitations.
ex post are expected to notify
Banks have two ways to
ensure compliance. The first is customers who regularly

exceed the limits. Notifying
the customer by phone or
letter may not be enough, _
however. If a customer continues to exceed the limits after
notification, the bank must
either close the account and
transfer the remaining funds
to a transaction account or
withdraw the transfer capabilities._of the account.
If a bank's monitoring system
discloses a large number of
transactions that exceed the
limitations, it is likely that
customers do not understand
the transaction limitations in
the accounts. New accounts
representatives can help by
directing customers to the type
of account that best meets
their transaction needs. When
a customer exceeds the limits,
the bank should include a
brochure or written explanation
of the account with the exception notice. If customers are
aware of account provisions
and the consequences of


repeatedly exceeding account
limitations, they are more likely
to comply.
In planning its deposit products, a bank should take into
account its deposit accounting
and monitoring capabilities
when it determines the number of and type of transactions
permitte,d in each of its deposit
accounts. (The limitations
on savings accounts are
.described in Paragraph 204.5
of Regulation D.)

Banking on the Fed:
One Examiner's View
hanges in technology and new
credit and investment products
are transforming'
the way bankers do pusiness
and, correspondingly, the way
bank supervisors examine
banks and bank holding companies. In addition, concerns
about credit availability and
regulat01y changes mandated
by FDICIA are increasing both
public and industry scrutiny
of the historically low-profile
bank examiner.
Despite these challenges,
according to Gary Juelich, a
St. Louis Fed examiner, "It's
a great job. No two days are
the same." Juelich's 17 years
of experience are typical of
the Fed's senior examiners
and includes a diversity of
assignments. For example,
Juelich has served as examinerin-charge of examinations of
several community banks,
participated in the review of
commercial and real estate
credits duriIJg the Shared
National Credit Program,
assisted in holding company
inspections and led an examination of a troubled institution
which led to a determination
of insolvency.
According to Juelich, the
most critical challenge faced
by examiners is to identify
credit risk while there is still
time for the banker to minimize losses. While the core of
an on-site examination has
changed little, examiners now
spend more time analyzing
information between on-site


Gary J. Juelich
Federal Reserve Bank of St. Louis


visits. This includes reviewing
a bank's ·efforts to improve
critic12ed assets and correct
l~-violations as well as its
plans to address weaknesses in
underwriting standards and
internal controls.
When asked how he handles
disagreements with bankers,
Juelich said simply, "With
experience, you learn to trust
your instincts. We approach
each examination with an
open mind and are always
willing to listen to the bank's
position on any issue. Exposure
to many banks of va1ying size
and market orientation has
taught me that no single
approach works for all banks;
each has unique characteristics
that need to be considered.''
Concerns about
credit availability
and regulatory
changes are increasing both public and
industry scrutiny
of the historically
low-profile bank

Staying abreast of industry
changes is also a challenge.
As margins narrow and competition incre~es, bankers
seek new profit sources that
examiners have to evaluate.
Additionally, as regulations
affecting banks change and
increase in complexity, examiners have to apply them on
the job. To keep up, examiners
spend more time in school.

Within the past year, Gary
taught one of the Board of
Governors' credit analysis
schools required of comrnissioned examiners'and the~
became a student himself
for several weeks at graduate
banking school.
Though examiner resources
are stretched, the Fed continues
to perform full-scope examinations at all banks, regardless
of the size. "The duration and
emphasis of each examination
varies with size, complexity,
and financial condition,"
Juelich explained. "But we
believe that every aspect of the
bank needs to be considered
to assess its true condition."
Juelich sees this as a benefit
for member banks. "If I were
a senior bank official or director, I would welcome the Fed's
approach. I would want to
know that the condition of
the bank is being accurately
reflected and be aware of any
adverse conditions that may
be emerging while there's still
time to correct them."



The District's Investment Portfolio
ne of the most
,appare~t trends
in quarterly
District banking
statistics is the
substantial increase in the
investment securities portfolio.
Throughout 1991, as loan
demand weakened and continued sluggish, banks invested
more of their assets in securities. The banks' aggregate
securities portfolio has expanded by 21.3 percent in the last
five quarters, with the growth
rate increasing each quarter
(see chart below). On March
31, 1992, investment securities
made up 30.8 percent ofDistrict
;banks' assets.
Acloser look at the -investment securities portfolio
,reveals that U.S. government
agency securities account for


50 percent of the total. When
the U.S. Treasury segment is
added, the two components
account for 79 percent of the

District Securities Growth
Quarterly Trend

_ __:______:.__ _ _ _ _ _ _ _ _ _ _ _ _-,

,6L__ ___:__ _- - - - , - - - - - - - ; - - - ----,iJI
4L--:,____ _ _ _ __

Federal Reserve Bank of St. Louis

Interest lnco·me' vs. Interest Expense _,.
(As a Percent of Average ~arning Assets)



O 12/90
■ Interest Expense

■ Interest Income
Net Interest Margin Shown in Brackets Adjusted for Tax Equivalency

portfolfo. These categories were
also the fastest growing during
the period.
Minimal change\:vas observed
in the maturities distribution
and securities mix. There was
a slight increase in the nearestterm securities during the last
two quarters. And the mix of
fixed vs. variable rate securities
- changed only slightly. Most of
the·securities in the portfolio
are fixed-rate securities with
maturities greater than one year.
As short-term interest rates
declined during 1991, corresponding yields on securities
receded as expected. Despite
su_ch decl\nes and despite
banks investing more funds
in securities, the net interest'
margin showed no adverse
effect primarily because of
much lower interest expense
(see chart above). District
interest expense dropped by

152 basis points during the
five-quarter periop e~ding
March 31, 1992. Meanwhile,
interest income declined by
only 129 basis points, bolstering the net interest margin.
The fact that only 11 percent
of the banks' securities portfolio matured in each quarter
protected t~1e yield from substantial declines. In the present environment, banks face
the challenge of balancing
interest income and expense
if interest r9-tes continue to
decline, putting additional
'pressure on the margin.

Subordinated Debt Limitations
(continuedfrom front page)

acceleration clauses will no
longer be included in capital.
To qualify as Tier 2 capital
under the risk-based capital
guidelines, subordinated debt
must now meet t0e following
• It must be subordinated in
right of payment to the
claims of the issuer's general
creditors and, for banks, to
the claims of depositors as
• It must be unsecured and
have a minimum average
maturity of five years;
• Acceleration clauses must be
limited to those that permit


Post Office Box 442
St. Louis, Missouri 63166

Supervisory Issues is published bimonthly by the Banking Supervision
and Regulation Division of the
Federal Reserve Bank of St. Louis.
Views expressed are not necessarily
official opinions of the Federal
Reserve System or the Federal Reserve
Bank of St. Louis.
Federal Reserve Bank of St. Louis

debtholders to accelerate
payment of principal in the
event of bankruptcy or
appointment of a receiver
for the issuing organization;
• It must not contain any
covenants, terms or restrictions that are inconsistent
with safe and sound banking
Acceleration clauses that will
exclude an issue from qualifying
as Tier 2 capital include those
that permit debtholders to
accelerate repayment if the
issuer fails to make scheduled
principal or interest payments,
defaults on any other debt, or

fails to honor financial covenants such as those which
specify capital ratios or maintenance of a minimum amount
of capital.
Examples of provisions that
are inconsistent with safe and
sound practices include
covenants that dq not allow
additional borrowing or prohibit a banking organization
from selling a major subsidia1y
or undergoing a change in
While there is no transition
period to implement this interpretation, subordinated debt
issued prior to September 4
may continue to qualify as
Tier 2 capital as long as the
terms of the issue have been

commonly used by banking
organizations and do not provide an unreasonable degree of
protection for the holder.
Outstanding subordinated
debt with provisions referring to
capitaLratios or other financial
performance measures that
permit the holder to accelerate
payment of principal when the
organization begins to experience financial difficulties, however, will no longer be included
in Tier 2 capital.